China as Investor: The New Dynamic in U.S. Finance

Along with reassuring the media that China can meet its growth target of 8 percent in 2009 and that the country can do more to boost its economy if necessary, Chinese Premier Wen Jiabao made another very interesting comment at his press conference on Friday, following the closing of the National People’s Congress in Beijing.

Premier Wen expressed his concern about the U.S. government debt that China holds. In response to a question, Wen said: “We have lent a huge amount of money to the U.S., so of course we are concerned about the safety of our assets. I do in fact have some worries.” He called on the U.S. to “maintain its credibility, honor its commitments and guarantee the safety of Chinese assets.”

With this one statement, Wen introduced a new dynamic into the financing of the United States government. For the first time in history, the President of the United States will have to sell his economic policies not only to Congress and the American people, but also to a big investor.

Answering to investors is something that companies around the world are quite accustomed to doing. When my son was starting his software business, I told him that the minute he took one dollar from an investor, he had a new boss.

The power of investors to shape policies and strategies is in evidence every day on Wall Street. For example, the pervasive restructuring of American industry that occurred in the 1980s, one of the reasons why the Dow Jones Industrial Average more than tripled from 785 at the start of the decade to 2700 at the end, was due to the mobilization of acquisition capital on a scale never seen before.

By developing the market for high yield and mezzanine securities, so-called junk bonds, Michael Milken and Drexel Burnham gave corporate raiders the equivalent of a platinum card with unlimited credit, which they then used to acquire and force large, well-established companies with entrenched managements to streamline their businesses.

Prior to China accumulating its $2 trillion of foreign currency reserves, the accumulation of capital by sovereign nations has only been an issue twice before in modern history. In the 1970s, following the first oil shock, oil-producing countries began accumulating large amounts of “petrodollars,” a term coined by a professor of economics at Georgetown University who felt there was a need for a word to describe the situation where the OPEC countries were earning large amounts of money, in dollars, from oil production. The way in which the OPEC nations intended to recirculate their petrodollars in the global economy was of great concern to U.S. policymakers.

At the end of the 1980s, with the Japanese economy at its peak, the way in which so-called “Japan, Inc.” chose to use its wealth and invest abroad was also of concern. The acquisition by a Japanese company in 1989 of a controlling interest in Rockefeller Center, an American icon, caused a stir that William F. Buckley, the editor of the National Review, said would have been “appropriate in response to a bulletin in 1945 that the Japanese had reoccupied Okinawa.”

In the case of both the OPEC countries and Japan, subsequent events caused these concerns to fade away rather quickly. However, there are two aspects that make the case of China in 2009 quite a bit different.

First, no one is predicting that China will become any less of a factor in the global economy in the years ahead. In fact, most would concede that China’s influence will only increase.

Secondly, China has become the largest investor in the United States economy, holding an estimated $1 trillion of U.S. government obligations, at a time when the United States is embarking on a series of stimulus packages and other spending programs that will substantially increase the national debt. Not only must President Obama re-assure Premier Wen of the safety of China’s current holdings, but he must also convince China to buy more bonds.

One Response to “China as Investor: The New Dynamic in U.S. Finance”

The cancellation by the US of planned F-16 sales to Taiwan followed four days after Wen expressed concerns over the US Treasury market. Score one for the Bush administration, who last October, approved the sales after eight years of delay due to obvious diplomatic issues. One might expect the next move, in due course, will be China’s: ‘peaceful reunification” with implicit US support. I do not think the US has to “sell” treasury debt to China. Rather, this is real-economiks.